Are you ready for tax reform? Well on its way
to becoming a reality, the Tax Cuts and Jobs Act has passed both the House and
the Senate. The only thing standing between the president’s promised signature
and this massive legislation is the matter of reconciling the two different
Pass-Through Businesses Unfortunately, the income of owners of so-called “pass-through” businesses, such as sole proprietorships, partnerships, limited liability comanines, and S corporations that pass their earnings to their owners, is taxed at their individual rates, which is as high as 39.6 percent. Thus, if a regular C corporation is taxed at a flat 20 percent tax rate while the majority of small businesses doing business as pass-through business entities might soon see a flat 25 percent tax rate under the proposed “reforms,” a switch to incorporation might be in order.
On the one hand, the House plan would reduce the personal
income tax rate from 39.6 percent to 25 percent for all pass-through income
after 2017, with a nine percent rate for some small business income. Under the
Senate’s version, not everyone would be able to take advantage of the full 17.4
percent deduction offered. If, for instance, half of a taxpayer’s wage is lower
than 17.4 percent, that would be the applicable deduction.
Among the other provisions included in the draft bills currently
undergoing “reconciliation” are:
OF THE REHABILITATION AND DISABLED ACCESS CREDITS: Any
self-storage facility that retrofits or plans to fix their premises to be
handicapped friendly, may lose the tax credit associated with that expense. The
Senate would like to repeal the tax credit, so many businesses have claimed
when fixing up their business premises. On a related note, the disabled access
credit that helped many make their businesses ADA compliant has also been
repealed, at least in the Senate’s version of tax “reform”.
LIKE-KIND EXCHANGES: The like-kind exchange rules, the tax law’s Section 1031, currently allow self-storage developers and operators to defer tax on the built-in gains in property by exchanging it for similar property. With multiple exchanges, gains essentially may be deferred for decades and ultimately escape taxation entirely if the property’s basis is stepped up to its fair market value upon the death of the owner.
Under the proposed version of Section 1031, like-kind exchanges would be limited to so-called “real” property, but not for real property held primarily for sale. This ensures that real estate investors retain their ability to defer capital gains realized on the sale of property.
EXPENSES: In an attempt to “level the playing field” between
businesses that capitalize through equity and those that borrow, both the House
and Senate bills would cap the interest deduction to 30 peercent of adjusted taxable
income. Exceptions would exist for small businesses to protect their ability to
write off the interest on loans that help them start or expand a business, hire
workers, and increase paychecks.
COST RECOVERY – INCREASED
EXPENSING:Under current law, when a self-storage business purchases new
equipment, its cost must be deducted over a period of several years. Both the
House and Senate vesions would allow businesses to immediately expense 100 percent
of the cost of any equipment purchased. The immediate expensing of capital
assets is appealing because, unlike 50 percent bonus depreciation, the
use of the equipment doesn’t have to commence with the self-storage facility or
SECTION 179: In an effort to
promote business investment and growth, lawmakers created Section 179 of the
tax law that currently allows a self-storage facility or business to treat some
equipment purchases as an immediately deductible expense. Under the House
version, the Section 179 expensing limit would be raised to $5,000,000. In the
Senate version, the small business expensing limitation under section 179 would
be increased to $5 million and the phase-out amount would be increased to $20
million. In addition to being indexed for inflation, the new rules would modify
the definition Section 179 property to include qualified energy efficient
heating and air-conditioning property permanently, effective for property
acquired and placed in service after Nov. 2, 2017.
pastnerships used by so many self-storage developers and operators as both an
operating entity for their business and in joint ventures, face several
potential rule changes. For one, the technical termination of a partnership
rule would be repealed under the Senate bill. Thus, the partnership would be
treated as continuing even if more than 50 percent of the total capital and
profit interests of the partnership are sold or exchanged and new elections
would not be required or permitted. The provision would be effective for tax
years beginning after 2017.
SMALL BUSINESS ACCOUNTING METHOD AND
with average annual gross income of up to $25 million may be able to use the
cash method of accounting, allowing more self-storage facilities and businesses
to use the simple cash-basis accounting method. Under the provision, the
current $5 million threshold for corporations and partnerships with a corporate
partner would be increased to $25 million, and the requirement that such
businesses satisfy the requirement for all prior years would be repealed.
Both bills modify the rules for net operating losses (NOLs),
allowing losses to be carried forward indefinitely. NOLs could not be carried
back, but could be carried forward indefinitely. The Senate version eliminates
the carry-back and carry-forward tax strategies now used by many self-storage
facilities to reduce past and future tax liabilities using net operating losses.
The House version tightens the rules around their use but allows a carryback
for eligible disaster losses.
2010 Affordable Care Act, popularly known as Obamacare, contained a provision
requiring individuals to buy health insurance or pay a federal penalty. The
Senate bill adds a key feature not in the House version: repeal of the
Affordable Care Act’s requirement that everyone in the U.S., even small
business owners, have health insurance.
Tucked away in the pages of the reform bills, are provisions
that would repeal the deduction for local lobbying expenses. Both the House and
Senate of the Tax Cuts and Jobs Act contain a number of other provisions that
will impact every self-storage facility and its developer or operator, such as:
revised rules for contributions to capital in exchange for stock,
elimination of the employee business expense deduction,
reduction and ultimate repeal of the estate tax, and
of strong safeguards to distinguish between individual wage income and
“pass-through” business income to ensure fair treatment for small business
Reconciling the differences between the House and Senate versions of reform may be a complicated process. While it’s hard to say how much of this ultimately becomes law, the key is to understand how these changes may impact the self-storage operation’s balance sheet, financial plans and, of course, tax stragegy.
Mark E. Battersby is a freelance writer, columnist, author and lecturer based in Philadelphia, Pennsylvania. He specializes in reporting developments within the tax and financial arenas.